What problems could a firm face if its cash flow forecast proved unreliable large

What problems could a firm face if its cash flow forecast proved unreliable?


An analysis of the cash flow problems a business might experience even after preparing cash flow forecasts

You may be worried about the prospect of preparing cash flow forecasts. Or possibly even worse, you’re fretting about the problems your firm or business could face if your cash flow forecasts proved unreliable. Where would this leave you? Let’s take a closer look…

What problems could a firm face if its cash flow forecast proved unreliable large

What problems could a firm face if its cash flow forecast proved unreliable in 15 seconds…

The problems a firm could face if its cash flow forecast proved unreliable may simply be the same as if the forecasts were not prepared in the first place. However, at least by preparing cash flow forecasts, and especially if you include a worst-case scenario, you should be prepared for any downside from the base-line projections for your business. The effects of cash flow problems for a business, where the forecasts are unreliable, could lead to real cash flow difficulties for the business. This is unless your firm is able to secure additional funding from the bank or other external funding sources.

How reliable are cash flow forecasts in the first place?

It’s always worth remembering at the outset when you are preparing cash flow forecasts, that they are simply that…a forecast. If you look at the meaning of ‘forecast‘; it’s a prediction or an estimate of a future event or trend. So unless you have a crystal ball. Or unless you are able to predict the future. Your cash flow forecast is going to be your ‘best guess‘ of what might happen in the future. Which means that in reality, no cash flow forecast will ever be totally reliable.

But having said that, it’s better to prepare business plans and forecasts to make-ready your firm or business for what might happen in the future. But the most practical advice for anyone preparing cash flow forecasts, is to look at it in two halves. The first half relates to forecast sales and income. Whereas the second half relates to costs of sales and overheads or outgoings.

But let’s look at cost of sales and overheads to begin with.

Cost of sales and overheads or outgoings reliability

When it comes to forecasting your firm’s cost of sales, overheads or outgoings, these are much easier to predict than it is to forecast sales and income. Taking overheads to begin with; it’s easy to forecast most, if not all your business overheads as these are generally known. For example, premises expenses such as rent, rates, light and heat will be similar to the prior years’s figures. Unless of course you plan to expand your business significantly. However, having said that, even with a planned expansion, it’s normally fairly easy to assess the increased costs associated with the expanded premises requirement.

Similar rules apply to most other overheads, which means that your overhead forecasts should be pretty reliable and easy to forecast.

With regards to your businesses cost of sales, this is relatively easy to forecast. This is because your cost of sales will be based upon the level of forecast sales. You know what your products or services will cost for the predicted sales in your forecasts. But the problem arises where the sales forecast is unreliable. If your sales forecasts are unreliable or wrong, then equally your cost of sales will be equally as unreliable.

Forecast sales and income reliability

The major part of your cash flow forecasts, which may affect how reliable they are or not, relates to the sales and income forecast. Unless your business has firm orders for the forecast period, it’s extremely difficult to forecast sales accurately. With that said, what you have to do is to use sound assumptions. You need to base your forecasts on what you are able to reasonably predict. This should be calculated based on the information you have at the time of preparing your cash flow forecasts.

For this reason I always recommend you prepare a business plan to accompany your cash flow forecasts. This way you are putting things in writing. By putting pen to paper as it were, this forces you to think about the numbers you intend to include in your forecasts. By having to backup your numbers with reliable assumptions, this will help you to be more reliable with your projections.

As already mentioned, the reliability of your sales forecast impacts on how reliably your cost of sales will end up being too. Get the sales forecast wrong, and your cost of sales will be wrong too.

What problems could a firm face if its cash flow forecast proved unreliable?

If after preparing your cash flow forecasts, they prove unreliable, what problems could your firm or business face? The problems are possibly no different in reality if you hadn’t prepared the forecasts in the first place. But what I always recommend is to prepare a number of cash flow forecast scenarios. Prepare a base-line forecast, which is what you hope will happen, but then prepare a best-case scenario and also a worst-case scenario too.

Your best case scenario is a forecast which would include a projection where your business really flies. Where the sales exceed your expectations and cash flows and profits are better than you can hope for. Whereas the worst case scenario is about looking at what might happen if your base-line forecast doesn’t happen for whatever reason. The worst-case scenario forecast is necessary in order to plan for the worst. In fact the worst-case scenario is your back-up projections so you can be prepared for any problems that may arise out of an unreliable cash flow forecast.

What are the effects of cash flow problems for a business?

The effects of cash flow problems for a business depends on how bad the cash flow situation gets. But if you don’t have ‘cash in hand ‘ or at the bank, you may be forced to take on additional loans or an bank overdraft from your bank. In the interim, whilst you are waiting to see if your bank will lend you the funds, you may need to make arrangements with your suppliers to make late payments.

Late payments to suppliers can ultimately lead to all kinds of extra problems for your business. For example, if you are forced to pay your key suppliers late, you may not receive your goods or products to sell to your customers. If you don’t have product to sell, you’re customer will become unhappy and this will lead to less sales and reduced cash inflows.

Late payment of suppliers can also lead to late payment fees, but also late payments can negatively affect your business credit rating too. This in turn will impact on your ability to get credit accounts with other suppliers and so on.

Ultimately the effects of cash flow problems for a business can lead to a downward spiral of your business. If you are not able to manage your lack of cash, or if you’re not able to secure funding either from the bank or other sources to get through the problem you may even go out of business altogether.

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